Expert SpeakTerra Nova
Published on Oct 23, 2026
India’s long-awaited rating upgrade is a reminder that the price attached to a country’s risk can determine how quickly and how well it can reduce that risk
Japan Credit Rating Agency (JCR) recently raised India’s sovereign credit ratingfrom BBB+ to A-, the first time in over 35 years that any agency has rated India in the A range. This is significant because the Big Three — Fitch, Moody’s, and S&P — have barely moved in decades.Fitchhas maintained its rating for India at BBB- since 2006;Moody’shas kept it at Baa3 since downgrading it from Baa2 in 2020, in the wake of the COVID-19 pandemic; and although<a href="https://www.cnbc.com/2025/08/14/sp-upgrades-india-rating-on-economic-resilience-fiscal-consolidation.html” rel=”nofollow noopener” target=”_blank”>S&Pupgraded India from BBB- to BBB in August 2025, its first such move in 18 years, the rating still sits in the lowest band of investment grade.
Asovereign credit ratingexists to assess the risk of lending to a government and to communicate that risk to investors so that they can price it. This shapes the cost of debt available not only to the government but also to projects across its economy. It raises an uncomfortable question: what happens when the price attached to a country’s risk makes it harder for that country to actually reduce that risk, and who bears the heaviest burden as a result? The question is most pressing for climate action and the energy transition, where the investment required is large, urgent, and precisely the kind that a weak rating makes more expensive.
Impact on the Clean-Energy Sector
Thecost of capitalis made up of a risk-free rate of return plus sovereign risk premia, which are shaped by macroeconomic (country-level) and microeconomic (project-, sector-, and business-level) conditions. Sovereign credit ratings are one input into the premium, alongside market conditions and a country’s fiscal, monetary, and external credibility. A weaker rating therefore tends to mean a higher premium. That premium does not stop at the government: investors financing a solar plant or a transmission line in the same country price in the same country risk, so private projects, too, face higher required returns.
Renewable projects feel this more than most investments. Solar, wind, grids, storage, and related infrastructure typically require most of theircapital expenditure (CapEx) upfrontand earn it back gradually over decades. That structure makes theirnsequence is not that every project becomes unbankable, but that some get delayed, scaled back, or can proceed only with outside guarantees
A Self-Reinforcing Loop
The relationship is not one-directional. The same climate and energy risks that countries need investment to reduce can themselves weaken sovereign creditworthiness. Climate-related disasters or energy shocks can damage infrastructure and economic output, raise public spending on reconstruction, and strain already constrained fiscal positions.Climate vulnerability can push up borrowing costsacross a country’s entire sovereign yield curve.
A 2026IMF working paperlinks climate disasters to a higher probability of government default. It estimates that the odds of a sovereign default rise by about two to three percent for every percentage-point increase in disaster-related losses as a percentage of GDP. The paper calls the resulting bind an “impossible trilemma,” where countries must increase adaptation investment, keep debt sustainable despite high borrowing costs, and avoid the higher default risk that delays bring. AnotherIMF studyfinds that climate vulnerability lowers sovereign credit ratings and raises borrowing costs, with larger effects in emerging and developing economies (EMDEs).
Climate vulnerability weakens a country’s credit standing and raises its borrowing costs; higher costs constrain the investment needed to reduce that vulnerability; and the resulting exposure to further climate-related fiscal damage feeds back into weaker credit ratings
OECDresearch reinforces the point: in developing countries (excluding China), the cost of capital for clean-energy projects is at least twice what it is in Europe or the US, for reasons that have less to do with the technology than with how investors price the country itself. Similarly,IEAestimates put the cost of capital for a typical solar photovoltaic (PV) project in EMDEs (excluding China) at two to three times the level in advanced economies in 2021.
The result is a self-reinforcing loop, which some call aclimate-investment trap:climate vulnerability weakens a country’s credit standing and raises its borrowing costs; higher costs constrain the investment needed to reduce that vulnerability; and the resulting exposure to further climate-related fiscal damage feeds back into weaker credit ratings.The loop, however, is not equally tight everywhere, and India and Africa show why.
India has sat in the lowest investment grade category for more than two decades, yet its clean-energy build-out has continued. Clean energy took83 percentof power-sector investment in 2024, and India now ranksthirdglobally in installed renewable-energy capacity. This does not mean the loop described above is flawed; rather, India has channels that route around it: a developing but still bank-dominated financial system, where state-linked lenders such as REC and IREDA raise money on the strength of the government’s backing, and an economy large enough that most of its clean-energy private capital isdomestic, not foreign.Foreign direct investmentin sectors such as power generation has risen steadily, but domestic capital remains the major source.
The loop bites hardest when a country is heavily dependent on foreign capital and rated more harshly than its fundamentals warrant. When a country has other financing channels, as India does, a weaker-than-ideal rating, which the government argues does not do justice to its fundamentals, cannot entirely derail the build-out.
Much of Africa has no such buffer, and its experience shows howlow ratingsaffect economies without these roundabout channels. The continent’s average external debt-to-GDP ratio almostdoubled from 16 to 31 percentbetween 2011 and 2021, which contributed to negative outlooks on the ratings of many countries. As of June 2023, only Botswana and Mauritius held investment-grade sovereign ratings in Africa. The continent holds roughly 18 percent of the world’s population but draws a mere2 percentof global clean-energy investment. One reason is a higher weighted average cost of capital (WACC): African countries receive renewable-energy finance at rates at least twice those in Europe or the US, which pushes up production costs downstream. Infrastructure default risk in Africa is, in fact, among thelowestglobally, yet investment risk is perceived to be high, resulting in low financing.
Read together, India and Africa highlight two consequences of the same mechanism.The loop bites hardest when a country is heavily dependent on foreign capital and rated more harshly than its fundamentals warrant. When a country has other financing channels, as India does, a weaker-than-ideal rating, which the governmentarguesdoes not do justice to its fundamentals, cannot entirely derail the build-out.
The Way Forward
Clean-energy projects carry risks beyond sovereign creditworthiness, including regulatory, political, foreign-exchange, offtake, and project-level risks that push up required returns on their own. This does not mean that credit ratings should look past climate risk, or that ratings alone determine borrowing costs. The problem arises when countries need capital to reduce the risks that investors are already pricing, when climate finance has to rely heavily on commercial-rate borrowing in a high-risk country, and when a rating struggles to tell different kinds of borrowing apart.
When the risk is closer to mispricing, as the gap between Africa’s low infrastructure default rates and its high risk premium suggests, subsidy alone does not fix the distortion. What is needed is better climate-risk data and rating methodologies that can distinguish resilience-related borrowing from broader structural fiscal weakness.
Where the constraint is genuine capital scarcity, the remedies are well known. Guarantees, concessional and blended finance, and risk-sharing facilities, along with long-term structural fixes such as developing domestic bond and derivatives markets to reduce dependence on international capital, have been discussed extensively by theIEAand theOECD, and most are already in practice.
However,when the risk is closer to mispricing, as the gap between Africa’s low infrastructure default rates and its high risk premium suggests, subsidy alone does not fix the distortion. What is needed is better climate-risk data and rating methodologies that can distinguish resilience-related borrowing from broader structural fiscal weakness.
Climate-resilient deferral clauses (CRDCs) already point in this direction. Recognised byS&PandFitch, they let a country pause payments after a “pre-defined” disaster. If they meet certain rules and verifiable triggers, a well-structured pause does not automatically count as a default. But the clauses are optional and narrow, asGrenada’s hurricane clauseshows. CRDCs are only a temporary emergency mechanism after a shock: they pause debt already owed, but do not distinguish fresh post-disaster borrowing to build resilience from fiscal slippage, nor do they treat resilience-linked debt differently from other borrowings when assessing creditworthiness. Even where agencies reward resilience, the debt raised to build it counts against the sovereign today, while the credit benefit arrives later, if at all. Extending the same logic would mean treating borrowing tied to verified adaptation or transition investment differently from other borrowing, both in debt metrics and in rating assessments.
The point is not to strip sovereign risk out of climate finance, but to ensure that markets can tell a country investing in resilience from one sliding deeper into vulnerability.
Manini is a Research Assistant with the Centre for Economy and Growth at the Observer Research Foundation.
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Manini
Manini is a Research Assistant at the Centre for Economy and Growth, ORF New Delhi. Her research focuses on the intersection of geopolitics with international …
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